The purpose of tokenization is to meet the Payment Card Industry (PCI) Data Security standard, which mandates that...
credit card data can't be stored on the retailer's point of sale (POS) device or its databases after a transaction. This is one of the 12 points in the PCI DSS, which must be met by companies processing credit cards, including banks, retailers and merchants.
Many merchants have complained that in order to be PCI compliant, they will have to make expensive upgrades or replacements to their POS systems. Tokenization makes POS systems compliant without costly changes by using a 16-digit randomly generated number resembling a card number. The only numbers from the original card are its last four digits, which become the first four of the token. Using only these four numbers, the token is still PCI compliant.
Tokenization was invented by Shift4 Corp., which developed a driver for POS software to generate and accept tokens. The only thing merchants have to do is install the driver on their POS equipment. The driver is substantially cheaper than replacing or upgrading POS hardware to encrypt card numbers, which would otherwise be required for PCI compliance.
Is tokenization effective? For the time being, it probably is. Of course, eventually some clever hacker will probably find a way to beat the system. But right now it offers both PCI compliance and some level of network security -- the best of both worlds for merchants using credit cards.
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